A: As a franchisee, at some point you may feel your franchisor is not delivering value for the fees you are paying or is not performing as you expected. In these cases, you must first be aware of your rights and obligations under your franchise agreement before taking any action.
Generally, if a franchisee is of the view that a franchisor is in breach of its obligations under the franchise agreement, he or she has the right to sue the franchisor for any proven damages they suffered as a result of the breach. Most franchise agreements do not provide for any additional remedies or rights; therefore, you must proceed according to normal contract law principles.
In the past, under the rare circumstances where the breach or default is so great that the franchisor is, in essence, not performing at all, franchisees could claim the agreement is at an end because of what has traditionally been called a ‘fundamental breach.’ However, in a recent case, the Supreme Court of Canada held the fundamental breach will not be recognized by the courts as a reason for the complaining party to rescind the agreement.
The perils of self-help remedies
In the case of an alleged breach, franchisees are not able to initiate self-help remedies that are not available under the franchise agreement or general contract principles. As a franchisee, you must remember the concept of good faith and fair dealing in franchise law applies to both parties in respect to the performance of duties and enforcement of franchise agreement rights. By initiating your own remedies, you may be breaching your own duty of good faith and fair dealing, giving the franchisor a right to claim damages of its own.
For example, in previous breach allegations, franchisees have commonly insisted on paying their royalties, advertising contributions and other fees into a trust account, often maintained by a lawyer, rather than paying the money directly to the franchisor. In other cases, they have simply stated they will cease payment until the franchisor either corrects the alleged breach or is prepared to negotiate a resolution. Franchisees who take self-help actions of this type are putting themselves in considerable jeopardy should they wish to pursue legal remedies.
The courts have held that franchisee ‘royalty strikes,’ as the practice is called, are illegal and will not be condoned. The reasoning is simple: in these cases, no court has determined whether or not the franchisor is in breach or whether the franchisees are legally entitled to damages. Further, franchise agreements do not give the franchisees the right to make payments into trust. Royalty payments are the franchisor’s main source of revenue, required for continued operation of the franchise system. By diverting payments into a trust account, franchisees are, in effect, strangling the franchisor’s cash flow, to the potential detriment of the entire system.
In a recent Ontario action, an entire group of franchisees unilaterally decided to cease paying advertising contributions, as they were of the view that the franchisor’s advertising program was not generating positive results. The franchisor brought an application for a preliminary injunction to prevent the franchisees from continuing this practice, and was successful. The court ruled that the matter had to be determined at trial before it would allow franchisees to independently cause a complete suspension of the franchisor’s advertising program.